Still a way to go for UAE markets

Published December 26th, 2011 - 03:00 GMT

It was the turn of the millennium and a new era of investment dawned.

Both the Abu Dhabi Securities Exchange (ADX) and the Dubai Financial Market (DFM) were launched in 2000, changing the way people invested their money; from unofficial over-the-counter buying and selling to regulated electronic trading.

More than a decade later and UAE markets have realised only some of the lofty goals envisioned at their launch.

The bourses have succeeded in modernising investment processes and giving companies another avenue to raise cash. But the 2008 financial downturn has hit these nascent markets hard, with a crisis across the property and banking sectors driving away big institutional investors. This has resulted in depressingly thin trading volumes, the closure of many brokerages and poor valuations.

"Stocks are held by very few entities as we don't have the institutional investors present to the same degree elsewhere, so it means our markets can be quite volatile with long periods of low trading," says Debashis Dey, a lawyer specialising in finance at Clifford Chance.

A glance at the latest market data for this year indicates the depth of the problem.

Up to last week, trading values on the exchanges had reached only Dh56 billion (US$15.24bn), about 10 per cent of their value in 2008 of Dh537bn.

The DFM General Index is down 16 per cent this year and almost 13 per cent has been shaved off the ADX General Index.

Rocky conditions globally and in the region have contributed to the problem.

The euro-zone debt crisis has shaken markets around the world this year, knocking investor confidence. Instability in the Arab world has also fuelled an exodus of capital from the Middle East.

"Overall risk appetite is currently at a very low ebb and Middle East markets are suffering as a result," says Julian Bruce, the director of institutional equity sales at EFG-Hermes. "An uptick in the global economy would result in some improvement in prices and volumes, but investors will not return automatically - there has to be local drivers, too."

Market watchers were hoping one such driver would be an elevation to emerging-market classification from the index compiler MSCI this month. An upgrade from the UAE's existing frontier-market status could have reaped hundreds of billions of dollars worth of capital inflows from international fund managers using the MSCI Emerging Markets Index as a benchmark.

But the promotion never happened. The complier blamed flaws in the UAE's delivery-versus-payment system, a mechanism that transfers payment at the same time as a stock is bought or sold.

"Anecdotally, the business of settlement is a problem," says Alan Rodgers, the head of banking and finance in the Dubai office of the law firm Hadef & Partners. "Brokers have no means to immediately render cash without first having the documents to hand, so it's not so easy."

MSCI's decision left many traders deflated and hoping for a positive result from the next review in June. However, other market watchers say action needs to be taken now to stimulate stocks.

One suggestion would be for the Government to float a small percentage of its larger blue-chip companies. In Dubai, this could mean Emirates Airline, Dubai Electricity and Water Authority or Dubai Duty Free. In Abu Dhabi, it could be Mubadala Development, a strategic investment company owned by the Abu Dhabi Government, or Etihad Airways. "Spinning off 10 per cent of a crown jewel with a positive financial track record offering high returns would increase the depth of listings and encourage liquidity," says Mohammed Ali Yasin, the chief investment officer at CAPM Investment.

Such a move could help to entice foreign institutional investors and improve trading volumes.

It would also broaden the depth away from the property and financial sectors that currently dominate markets.

Government officials have already signalled an increasing readiness to act on another move that would help to make local markets more attractive to foreign investors. A merger between the country's three exchanges is being advised by Goldman Sachs.

"We talk to investors and they have concerns that there are three exchanges within a short geographic distance," says Peter Gotke, the vice president of depositary receipts at BNY Mellon. "Consolidation has already taken place in Dubai [between Nasdaq Dubai and the DFM], and that's indicative of the steps the Government is taking."

Other changes are happening that should be beneficial to market conditions. The Securities and Commodities Authority is pushing through rules intended to allow traders to take a more active role in buying and selling stocks, otherwise known as market making. Such features are common in more developed markets.

The approval this month of the companies law is expected to set the stage for a relaxation of foreign ownership rules in certain sectors, a move that is hoped will encourage foreign investment.

Opportunities for further improvement remain, say market watchers. There is "ample room" to simplify many of the procedures relating to day-to-day trading activities, Mr Bruce says. Confidence would be boosted by more enforcement of rules about the dissemination of statements and results. And transaction fees in the UAE are relatively high.

Regulators could follow the example of more developed exchanges, Mr Rodgers says.

"It's important to have the easiest regulations with the least red tape possible and an astute regulator."

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